NVDA reported its first-quarter earnings for fiscal year 2024, surpassing expectations and causing a 27% surge in shares during extended trading.

The company's adjusted EPS was $1.09 compared to the expected $0.92, and its revenue reached $7.19bn, exceeding the estimated $6.52bn. NVDA mainly provided a strong outlook for the current quarter, predicting sales of approximately $11bn, more than 50% higher than the Wall Street estimate of $7.15bn.

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The company's data-center group performed well, with $4.28bn in sales, driven by demand for its GPU chips from cloud vendors and consumer internet companies. However, the gaming division experienced a 38% revenue decline due to a slower macroeconomic environment and the introduction of new gaming GPUs. The company's automotive division, focused on self-driving cars, grew by 114% YoY, but sales remained relatively small at under $300mn for the quarter.

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Overall, net income for the quarter was $2.04bn, a 26% increase compared to the previous year, while the company's sales decreased by 13% to $8.29bn.

Arista Networks, a leading cloud networking company, experienced a significant setback as its stock dropped by 12% after its last earnings call at the beginning of the month. Analysts raised concerns about the company's lack of visibility for the second half of the year, particularly regarding its "Cloud Titan" customers. Despite reporting strong first-quarter results and providing a positive forecast for the second quarter, ANET's future prospects were called into question. We wanted to provide you with our thoughts and an update on the company, held in our SLT Core Portfolio.

Looking at the company's first-quarter results, the company reported an adjusted EPS of $1.43, marking an increase from 84 cents YoY and surpassing estimates. ANET's revenue for the quarter reached $1.35bn, representing a 54% YoY growth and outperforming the estimated $1.31bn. Product revenue amounted to $1.17bn, indicating a 62% YoY increase, while service revenue stood at $179.3mn, showing an 18% YoY growth. The cost of revenue also experienced an upward trend, with a total of $546.8mn, a 69% increase compared to the previous year. Hence, adjusted gross margin for the quarter was 60.3%, slightly lower than the 63.9% achieved in the same period last year, but exceeding the estimated 60.1%. Additionally, the adjusted operating margin improved to 41.2%, up from 38.3% YoY and surpassing the estimated 40.3%.

For the second quarter, the company projects revenue between $1.35bn and $1.40bn, in line with the consensus estimate of $1.35bn. The company expects an adjusted gross margin of 61%, matching the estimated 61%, and an adjusted operating margin of 40%, slightly lower than the estimated 40.5%. The company indicated that gross margins likely reached a trough in the first quarter and are expected to improve in the second quarter, with a further upward trend in the third and fourth quarters.

ANET demonstrated strong near-term execution, surpassing revenue expectations in the first quarter of 2023 and providing a positive revenue outlook for the second quarter. The company's performance was driven by improvements in the supply backdrop, allowing ANET to manage its backlog more efficiently and achieve higher margins by reducing reliance on expensive broker parts. Management guided for further improvement in gross margins throughout the year. Despite concerns surrounding the macroeconomic environment and potential headwinds in various customer verticals, management stated that the balance between headwinds and tailwinds is currently favorable, mitigating demand concerns for the remainder of the year.

However, some concerns emerged from the earnings report. Firstly, the magnitude of revenue beats is moderating, with the first-quarter results and second-quarter guidance showing the smallest beats since the first quarter of 2022, which was significantly impacted by supply constraints. Additionally, the company's elevated inventory position, resulting from long-term supply contracts despite reduced demand visibility, may limit the company's ability to quickly return to normalized gross margins compared to its peers. The company noted that easing supply chain dynamics are leading to shortened visibility among its larger Cloud Titan customers, returning to historical levels. This customer segment accounted for 46% of Arista's 2022 revenues and experienced triple-digit growth last year. As the sense of urgency to purchase well ahead of time diminishes and spending enters a digestion phase after two years of outsized growth, decelerating growth is expected in upcoming periods.

To conclude, the company delivered results that were in line with our expectations, with a modest beat on revenues, strong operating margins, and a significant beat on EPS. The company also provided carefully crafted and conservative guidance. Despite the strong performance, and in our opinion, the market overreacted with a sell-off due to concerns over reduced visibility from over 12 months during the pandemic to around 6 months currently. While concerns over reduced visibility are founded, we believe it is more accurate to view this as a normalization of the supply chain and lead times. As the supply chain improves, visibility is returning to a more typical state (6 months visibility with Cloud Titans is aligned with historical levels prior to 2020).

Our thesis remained unchanged. The boom in AI also represents a major build cycle, and ANET is well-positioned to benefit from this trend. Networking is expected to gain a larger share of the Cloud Titan wallet spend as networking becomes increasingly crucial in delivering data to GPUs. ANET's strong position in high-speed networking is likely to allow it to capture the majority of this market. The company has already demonstrated its advantages, and it is expected to capitalize on them in the coming years.

The company shared a longer term TAM of $51bn by 2027. It is interesting to note that ANET also raised its 2025 TAM to $41bn, from $35bn when we published our full analysis of the company at the end of October last year.

We wanted to share an update of our portfolio. We started our journey last year by creating a proprietary stock-screener based on our Quality-Growth investment philosophy (more details here) and we then shared with you company analysis deep-dives. Based on our research, we started building positions carefully in 2023 and as of today, half of the portfolio is invested in stocks and the other half is sitting on cash, in order to build the portfolio opportunistically.

Here are the details, ignoring cash and considering only the stocks book:

Please note that we only recently added Evolution AB ($EVOS), Hermes ($RMS), and Ulta Beauty ($ULTA) to the portfolio. For more details about companies we hold, please visit the equity research section of our website.

Overall, the portfolio performed well since inception (first trading day of 2023), mainly helped by a large exposure to the information technology sector. Main contributors to the portfolio's outperformance are $META, $MSFT, and $GOOGL. The portfolio exhibits more volatility than the SP500 due to its growthy profile however, the quality factor, key to our strategy, mitigated the higher volatility and allowed the portfolio to show lower drawdown with especially longest drawdowns days c.2.5x less important than the SP500 (36 vs. 89 days). You can visualize the SLT Core Portfolio's tearsheet online containing all statistics and charts with regard to performance analysis.

Additionally, we wanted to let you know that we will be sharing in a future post the position sizing method that we developed to determine the weightings of each company in the portfolio. We hope it can be helpful for others as well.

Stay tuned for more updates and feel free to share your own portfolio strategies and insights in the comments section below. Let's continue to learn and grow together!

Disclaimer: This post is for informational purposes only and should not be taken as investment advice. Please do your own research before making any investment decisions.

We are delighted to share with you our recent collaboration with Yegor, who published our recent ULTA's deep dive on his Substack - "From $100K to $1M" & More. Feel free to subscribe by clicking here.

Following our analysis, we received several questions on the impact of competitors like Sephora to the company and decided to address it in this post.

Sephora is definitely a threat for ULTA but I believe both companies can coexist because they have different business models and target different markets within the cosmetics industry. While Sephora focuses primarily on luxury brands, ULTA offers a wider range of products, from high-end to affordable brands, and has a strong focus on the customer experience with its full-service, in-store salons and free sample offerings.

Sephora caters to customers who are looking for high-end, luxury cosmetics, and skincare products. The store carries a range of high-end brands which might not all be available at ULTA. On the other hand, ULTA caters to a wider range of customers, including those who are looking for both high-end and affordable products. The store carries a range of drugstore brands such as Maybelline and Neutrogena, as well as high-end brands Chanel and Dior. Additionally, ULTA has a strong focus on the customer experience, with its full-service in-store salons and free sample offerings.

In addition to ULTA's best-in-class loyalty program (40m+ members), which represents a unique advantage, the salon services are a way for the company to further differentiate and compete with Sephora. Bloomberg Intelligence is of the same opinion and believes ULTA has the opportunity to differentiate itself further through opportunistic M&A, especially in the area of services. With a solid balance sheet and low leverage, the company has room for consolidation in the fragmented $50bn salon-services industry. Though M&A is not ULTA's typical capital-allocation strategy, adding services could attract new customers, increase foot traffic, and raise average spending per customer. A potential acquisition in the semi-permanent lash extensions and services arena could target proprietary products, processes, and technology, such as Amazing Lash Studio's "GLAMCAM," and be offered within the company's existing store footprint.

As announced last week, after a brief introduction of the company (here), below is our latest deep-dive analysis of Ulta Beauty. Our aim is to provide you with accessible analysis but we truly believe we can all learn from each other, so please, as usual, let us know your feedback in a comment!

ULTA operates in the beauty and personal care segment in the US. Over the last decade, the sector has been relatively stable and growing c.25% despite the Covid-19 pandemic which impacted revenue growth both in 2020 and 2021 as expressed by the below chart. According to Statista, the sector could surpass the $100bn revenue mark by 2027.

After 2027 and by 2030, Prescient & Strategic Intelligence expects US beauty and personal care market to represent $128.7bn, implying a 5% CAGR for the 2022-2030 period. Even if the most recent pandemic had a significant impact on consumers’ spending behavior, especially within the beauty industry, the below chart shows that affected products like cosmetics and fragrances recovered quickly following the end of restrictions and are set to grow at pre-pandemic rates for the forecasted period.

Average revenue per capita is logically expected to follow the same trend with average annual spending of $290, driven by cosmetics and skin care. Interestingly, these segments account for c.60% of ULTA’s revenue.

We decided to look at the beauty market driving factors and how ULTA is positioned to benefit from them.

Did you or a friend ever purchased a beauty product that was recommended by a beauty influencer? It's highly likely that the answer is yes, as around 65% of consumers have bought a cosmetic product after an influencer promoted it on social media. Influencers of all sizes, from micro-influencers to major names, can drive the industry's changes. They have a closer relationship with customers than most brands do, and a positive or negative review from them can have a significant impact. It has also proven itself to be a very efficient way for companies/brands to reach a large number of potential consumers at lower cost.

In contrast to its competitors, ULTA has adopted a distinct strategy for influencer marketing. Other brands have come under fire for collaborating with influencers who promote impractical beauty ideals, neglect to reveal paid content, and have lately been affected by the de-influencing phenomenon. In contrast, ULTA has prioritized endorsing authenticity and openness. Instead of depending on a handful of prominent influencers, the company has cultivated (often long-term) partnerships with a vast array of micro-influencers who represent various backgrounds. These influencers were selected based on their genuineness and aptitude to connect with consumers. As an indicator, ULTA is one of the most followed beauty brands (and the first beauty products retailer) on Instagram with more than 7m followers.

In 2022, ecommerce sales for cosmetics and beauty retail in the US more than doubled compared to 2019, reaching $18.6bn from $9.21bn. Furthermore, by 2026, these ecommerce sales are predicted to make up almost one-third of the category's total retail sales. In terms of ecommerce sales, sephora.com leads the pack in the US with a revenue of $2.3bn in 2021, followed by ulta.com, which generated $1.89bn.

In the US, 22% of consumers prefer to purchase makeup, cosmetics, and fragrances online, while 34% opt for a combination of online and offline channels. Beauty brands that can adopt an omnichannel approach are more likely to attract and retain customers in the long term. To effectively merge online and in-store shopping experiences in 2023, beauty brands need to ensure

seamless integration across all channels. ULTA is focused on improving the digital experience it offers to consumers. The company's ecommerce sales grew by 35% CAGR from 2017 to 2021 (pushed by the pandemic).

According to Karla Davis, ULTA’s VP of Marketing, an omnichannel strategy involves connecting all channels in a way that works behind the scenes to provide guests with a seamless and convenient experience wherever they need it. In addition to its online presence and conform to the omnichannel strategy, ULTA partnered in 2021 with Target to enhance the company’s footprint in the country and provide a “shop-in-shops” experience.

As requested by @tomato, for us, the partnership is highly valuable beyond the small revenue generated from royalties (less than 3%). The collaboration provides an opportunity for the company to increase loyalty members, which is a crucial driver of sales. Target has a much larger customer base, with over 90 million RedCard holders, more than double ULTA’s

loyalty members. Moreover, most of these customers have not been ULTA shoppers in the past. ULTA’s products are prominently displayed within a 1,000-square-foot section next to Target's beauty selection. Currently, ULTA is available in about 350 Target locations, and this number is expected to increase in the coming years, with plans to reach 800 locations in the long run. As the number of Target locations grows, it may help offset the temporary slowdown in standalone store openings this year.

The beauty industry is currently experiencing significant disruptions mainly driven by the Gen Z's impact. This generation prioritizes self-expression and self-awareness, which is reflected in their beauty preferences. They are cautious about the brands they purchase from and the substances they put on their skin, thus they conduct thorough research before making a purchase decision. In fact, Gen Z spends more money on skincare than any previous generation.

ULTA accurately targets the “Beauty Enthusiast”, a customer who lives, loves, and breathes beauty and leans on to beauty for self-care and self-expression. Almost 80% of Gen Z female beauty buyers are considered "Beauty Enthusiasts" and account for 87% of beauty spend.

According to a survey carried out in the US in 2022 (Statista), ULTA was the leading beauty destination among US Gen Z consumers in that period, with a share of around 42% while Sephora ranked second, well below with a share of c.25%.

The company identified since its inception, an unmet need in the market by offering new shopping experiences for consumers beyond traditional mall or pharmacy/supermarket channels. They also stocked products across different price points, ranging from high-end brands to their own store-labels, bringing high and low under one roof. Today, ULTA offers a choice of 25k+ products across more than 600 brands.

Notably, ULTA has been successful in utilizing this strategy to encourage its customers to spend more on prestige products over time. The company revealed that new customers generally shift from spending 100% on mass-market products to a 40% mass-market/60% prestige split over a five-year period. This is crucial because it builds customer loyalty, and prestige

products typically have higher profit margins than mass-market products.

The salon services (hair, skin, brows & wax, makeup & lashes, ear piercing) are also unique to the company because it allows the client to try products before purchasing them. ULTA relies on their different products and brands to draw customers in with how unique they all seem, which allows them to apply premium pricing for some of their products. As a result, the company could observe that services guests have on average 3x higher annual spend, that 50% of guests purchase retail products the day of a service and have 5 additional annual visits to ULTA stores compared to the classic ULTA guest. It is also a major source of customer’s loyalty increase.

The company has developed a strong consumer research capability to comprehend shifts in consumer values, perceptions, and behaviors, as well as real-time insights. The company has a unique advantage with more than 40.2mm active Ultamate Rewards loyalty program members, which provides them with exclusive insights into customer preferences and behavior. Based on their insights, the company has identified that beauty enthusiasts have a profound and emotional connection with beauty, which is further enhanced by social media. Thanks to its Ultamate Rewards program, ULTA uses member data to enhance personalization and drive conversion.

Personalization is an essential component of meeting customer expectations. McKinsey reports that 71% of customers anticipate personalized interactions, with 76% becoming frustrated when this does not happen. McKinsey’s research further highlights that personalization is linked to better customer outcomes, and companies that grow quickly earn 40% more of their revenue from personalization. Personalized recommendations can increase the likelihood of customer purchases by 75% in the beauty industry. Brands that fail to provide tailored experiences to customers risk losing out on revenue and customers. A recent survey by Optimizely found that 63% of consumers are more likely to shop with brands that customize the experience during the holidays. Understanding and anticipating customer needs is crucial, as 88% of shoppers believe that a brand's experience is as important as its products.

To conclude, ULTA’s current market share of 9-10% in the US beauty and personal-care market suggests that there is ample room for significant growth, especially as it expands its store network to cater to the convenience-driven consumer and attracts more loyal customers. Its extensive product range, diverse brand selection, rewards program, and well-trained staff

providing services are key strengths (competitive advantages) that set it apart from larger competitors, including mass merchants, department stores, and Amazon.

According to Bloomberg’s August and January surveys, ULTA is one of the top beauty shopping destinations. Those who shop at ULTA (about half of the total survey participants) tend to have a stronger affinity for trying new products and experimenting with bold colors. They also visit ULTA more frequently and spend more money per trip compared to other retailers. It is

important to also note that stores like Target (partner) rank number 1.

The below chart shows the total revenue for a company from 2013 to 2022, as well as the year-over-year (YoY) growth rates for each year. The company's total revenue increased from $2,670.6mn in 2013 to $10,208.6mn in 2022. The YoY growth rates ranged from a low of -16.84% in 2020 (pandemic) to a high of 40.30% in 2021, with an average YoY growth rate of 18.78% over the nine-year period. Revenue has been multiplied by 3.82 over the period representing a 16.07% CAGR.

Consensus expects total revenue to increase by more than $2bn over the next three years, growing at a slower than historical pace, but above the beauty market growth rate. Below is the estimates revenue matrix. The company provided guidance for 2023 (FY2024, ending January 2024) with a revenue between $10.95-11.05bn, a more conservative range compared to Wall Street estimates.

After a stable gross margin at around 35% pre-pandemic, the later improved to c.43% for the last 2 years. The main drivers for the gross margin improvement are the impact of occupancy cost optimization, royalty income from Target’s partnership, and a favorable channel mix (online sales).

Operating expenses are composed of SG&A and pre-opening expenses. Given the fact that the latter represent only an insignificant 0.1% of total revenue we will focus on SG&A.

The table below presents the operating expenses, operating income, and operating margin of the company from 2013 to 2022. The selling, general, and administrative (SG&A) expenses increased from $613.66mn in 2013 to $2,811.58mn in 2022. As a percentage of revenue, SG&A expenses increased from 22.98% in 2013 to 27.54% in 2022. In 2019, higher payroll and investment in future growth increased SG&A (as % of revenue) and this trend continued as the company faced headwinds caused by the pandemic.

However, since 2020, we can note a reduction of SG&A (as % of revenue) of 470bps. The company's operating income increased from $327.6mn in 2013 to $1,638.6mn in 2022. ULTA's operating margin fluctuated over the years, ranging from a low of 5.71% in 2020 (impact of the pandemic), to a high of 16.05% in 2022. The company has been able to increase its operating income and operating margin, even with the increase in SG&A expenses, thanks to its gross margin improvement.

The company expects the operating margin to range between 14.7% and 15% next year. Below is the estimates EBIT matrix, implying an EBIT margin of c.15% for each of the next 3 years.

ULTA has currently no outstanding debt and hence does not incur interest expenses. The only other expense subtracted to the EBIT to derive the company’s net income is the income tax expense. 2022's tax rate was c.24.4% and as per the company’s guidance, is expected to be c.24.6% in 2023.

Net income finished the period 6.12 times higher, growing significantly faster than revenue thanks to the aforementioned margin’s improvement and also due to a more favorable effective

tax rate since 2018.

EPS grew even faster (7.62x) driven by significant shares outstanding number’s reduction. The share count reduced by c.12.6mn over the period covered.

It is not a surprise to see consensus forecasting higher EPS growth than the one of ULTA’s revenue and EBIT. EPS is expected to surpass $30 by 2025 (koyfin FY2026). The company expects 2023 diluted EPS to be between $24.7 and $25.4.

Better efficiency and margins are directly translated into a higher return on assets (ROA) at the end of the period. Excluding the Covid-19 period, the company globally posted a consistently

higher ROA over time, suggesting the company is efficient in using its assets to generate profits and is able to maintain its profitability over time. This could be a result of various factors, such as effective cost management (COGS), efficient asset utilization, and strong revenue growth.

ROE literally jumped over the period, from more than 20% in 2013 to surpass 70% in 2022.

In order to better understand the above trend, we performed a DuPont Analysis for each of the covered years.

While net profit margin contributed (slightly) to the higher ROE, asset turnover remained stable over the period and it is effectively the equity multiplier that significantly increased from 1.6 in 2013 to 2.7 in 2022. It was caused by the introduction of long-term leases in 2019 (c.$1.6bn). As a result, common equity since stagnates around $1.9bn while total assets kept growing, increasing the equity multiplier and hence ROE.

Inventory turnover (measurement of the efficiency of inventory management): according to eposnow, an ideal inventory turnover ratio falls between 2 and 4, indicating good sales and business performance. A low ratio may suggest a decrease in product popularity or weak sales performance. On the other hand, an excessively high ratio can imply low stock levels and missed sales opportunities. ULTA’s inventory turnover ranged between 3.1x and 4.2x over the last decade.

Revenue per square foot: this metric measures a company's revenue generated per unit of retail space. It is a useful metric to evaluate the effectiveness of a company's retail space utilization and its overall financial performance. A higher revenue per square foot figure indicates that the company is generating more revenue from each unit of its retail space, which can imply efficient use of the retail space, high customer traffic, and better sales performance. As exhibited in the chart below, in addition to approximately doubling its total square footage over the period, ULTA also multiplied by 2 its revenue per square foot.

From a liquidity point of view the company meets our criteria. Current ratio is more than 1.6, with inventory accounting for the majority of current assets. ULTA holds more than $730mn in cash.

Days of Inventory Outstanding are 98.1 and because ULTA collects payments from sales (7.7) quicker than it pays its suppliers (34.5), the cash conversion cycle is around 70 days. The average cash conversion cycle for a retail company is 79 to 87 days, hence it is positive to see that ULTA is able to convert cash quicker than the industry average.

From a solvability point of view, and as discussed earlier, ULTA’s debt level is non-existent and has a strong balance sheet. However, if we include long-term leases in the total amount of debt, debt to equity and capital are 97.1% and 41.9% respectively. Net Debt (cash minus long term leases) only represents 0.5x the company’s EBITDA and with a current Altman Z-Score of 7.14 (above 3), it is fair to assume that there is no risk of bankruptcy.

Operating activities generated close to $1.5bn in cash in 2022. D&A represented on average c.4% of revenue over the past 10 years and has been historically the main addition to net income in order to compute the cash from operations. Other operating activities also increased CFO in the recent years, unfortunately we have not been able to collect more details on the nature of these other operating activities.

Investing activities used $314.58mn during the last exercise, almost entirely attributed to capital expenditure (CapEx). The latter accounted for c.8% of ULTA revenue between 2013 and 2017 to finance the company’s massive organic growth and expansion. It gradually declined to 3-4% of total revenues, as new store openings have slowed.

Financing activities used another $861.01mn in 2022 used entirely to repurchase common stocks. Net repurchase of common stock totaled $907.02mn in 2022. ULTA repurchased stocks during each of the covered year, and issued debt only in 2020, fully repaid by the end of the same year. The company does not pay dividends.

FCF topped $1.17bn last fiscal year ($23.23/share). Historically, the company showed a strong FCF generation and thanks to the self-financing of its growth, lower capital expenditure requirements toward the end of the period, and constant shares count reduction, ULTA multiplied its FCFPS by 14.7x over the past decade. Given current stock price and FCFPS, it

represents a FCF yield of c.4.26%.

Over the last 5 years, the stock outperformed the S&P500 (total return) by +111.53%.

The company is led by David Kimbell, who has extensive experience in various positions related to marketing, merchandising, and executive leadership. He has served as Chief Marketing

Officer and Executive Vice President at U.S. Cellular, Chief Marketing Officer and Senior Vice President at Seventh Generation, and held various positions at PepsiCo and The Procter and Gamble Company. He has been with ULTA since 2014 and has held several roles, including Chief Merchandising and Marketing Officer, and President before becoming CEO in June 2021.

Given his diverse experience in the beauty industry and consumer goods sector, it is fair to assume that Dave is well prepared for his current role as CEO.

David is surrounded by an experienced an well-structured management team. Scott Settersten has a long tenure with ULTA, joining in 2005 as a Director of Financial Reporting and currently serving as CFO, Treasurer, and Assistant Secretary. He focuses on optimizing the company's store fleet and before joining the company, Scott worked for 15 years at PwC. Another key member of the leadership team is ULTA’s COO Kecia Steelman. She has extensive retail industry experience, particularly in store operations, supply chain, and IT. She has held senior roles at ULTA, Family Dollar Stores, and the Home Depot Corporation. She began her career at Target Corporation, where she worked in retail operations and merchandising for over a decade. Because this is still too rarely the case, we wanted to emphasize that among the 9 members of the leadership team, 7 of them are women, which for us is paramount given ULTA’s activity and type of consumer.

Based on the median value of CEO compensation by company size (revenue), current total compensation (included exercised stock options) appears low. Only 1.39% of shares are held by

insiders.

The company’s mission, vision, and values are as follows:

The company's management should be congratulated for establishing a clear and long term strategy with the aim to expand market leadership in the US and drive profitable growth.

ULTA’s management well-executed strategy revolves around providing a comprehensive and engaging shopping experience for customers while maintaining strong relationships with its vendor partners. The company focuses on delivering a "wow" factor to customers by offering a wide range of products, expert advice, and personalized service in a welcoming

environment (“all things beauty”). Additionally, the company emphasizes innovation and invests in technology to enhance the shopping experience both in-store and online (“all in your world”). The company also prioritizes diversity, equity, and inclusion in its workforce and works to create a positive impact on its communities through various social responsibility

initiatives.

We like to see that ULTA’s strategy aims to serve the aforementioned growth drivers of the beauty industry, including improving its social media presence by building a new creator and content ecosystem and enhance its connection with key consumer cohorts. With regards to online shopping, the management wants to make ULTA the industry leader with personalized and

immersive digital experiences. Expand footprint via ULTA and Target “shop-in-shops” also aims to reinforce the company’s current omnichannel offering. A last block of ULTA’s strategy we wanted to highlight is its drive to operational excellence and optimization, including investment to build a guest-centric supply chain to support an fuel growth.

ULTA's capital-allocation strategy focuses on share repurchases and organic growth, which is evident from the board's authorization of an additional $2bn in buybacks last year. As already mentioned, the company also allocates approximately 4% of its sales to various initiatives such as new stores, digital experiences, and supply chain, with a larger proportion now being dedicated to the latter two compared to pre-pandemic levels. This shift is driven by ULTA’s desire to improve its omnichannel capability, its drive to operational excellence, and compensate for the deceleration in new store openings.

More than $4.8bn has been allocated to stock buybacks over the last decade. The below chart shows the relation between the number of shares outstanding, the current number of shares repurchased, and the P/E ratio. Share buybacks have been relatively well timed with a slowdown following March 2020 due to the impact of lockdowns and when valuation picked up well

above historical mean (P/E) before increasing when the overall situation became less uncertain and valuation appeared more reasonable.

Sustainable is part of the company’s global strategy. It is important to note that ULTA’s target consumer and more globally Gen Z share a common characteristic – they care deeply about

protecting the environment.

The company represents very limited ESG risk with a DeGiro rating of B, indicating good relative ESG performance and above average degree of transparency in reporting ESG data publicly.

At present, the stock is being traded above the 5-year historical main multiple averages' -1 standard deviation. However, since ULTA's historical growth rates are unlikely to remain the same

in the future and the high 2020 ratios were influenced by the pandemic, it is difficult to draw conclusions from these historical ratios. We have provided a table of implied prices based on ULTA's historical average ratios for reference. Notably, the historical P/E ratio substantially increases the average implied price.

To avoid depending exclusively on multiples, we utilized a discounted cash flow (DCF) model to evaluate ULTA’s intrinsic value.

We employed a 10-year forecast period for FCFF, where we utilized consensus estimates for revenue for the first 3 years, followed by a gradual revenue regression to the industry's aforementioned 5% CAGR for the remaining 7 years. Additionally, we established a perpetual growth rate of 3%. After considering the company's next year operating margin guidance and consensus estimates for the following 3 years, we determined a flat 15% margin for the projected period. To estimate CapEx, we used 5% of total revenue (1% higher than 3-4% recent cycle) and historical averages for D&A and net change in WC.

The DCF model suggests that the current value of ULTA shares is reasonable, assuming stable revenue growth and EBIT margin of approximately 5% and 15%, respectively. As a further step in our valuation process, we conducted a reverse DCF model, which is shown below.

Based on the reverse DCF, the current market price implies an FCF annual growth rate of 7.35% for the next decade and 3% perpetually which appears reasonable, based on the growth perspective of the company.

The main risk for us comes from the competition. Sephora is the world beauty retailer leader, jewel of the French luxury empire LVMH, and ULTA’s main competitor. Sephora is adopting

a similar strategy with expansion plan targeting ULTA’s (only) market – the US. Exclusivity on specific products and market share gain stopping ULTA's growth trajectory could have an important impact on the company's valuation and further development.

We would like to thank everyone who took part in our recent poll about the next company we should analyze. Ulta Beauty got the plurality of the votes (38%).

We will provide you with a quick introduction of the company and its business model in this post, and follow up in the coming days with a review ULTA's competitive advantages, growth perspective, financial condition and performance, management team, ESG factors, and finally valuation.

ULTA is a leading beauty retailer in the US that offers a wide range of beauty products and services. The company was founded in 1990 by Richard George in Bolingbrook, Illinois, and has since grown to become one of the largest beauty retailers in the country.

ULTA stores offer a diverse range of beauty products including cosmetics, haircare, skincare, fragrance and bath. The company also offers a full-service salon in each store, where customers can receive haircuts, styling, coloring, and other beauty services.

ULTA operates over 1,300 stores across 50 states, and also offers online shopping through its website and mobile app. The company carries over 25,000 products from over 600 different beauty brands, including both well-known and emerging brands.

In addition to selling beauty products, ULTA also offers its customers a loyalty program called Ultamate Rewards. The c.39mn members of the program earn points for purchases made in-store and online, which can be redeemed for discounts on future purchases.

One key aspect of ULTA's business model is its emphasis on offering a wide range of products from both established and emerging beauty brands, called the "One-of-a-kind Assortment". This allows the company to appeal to a broad customer base with diverse beauty preferences, and also creates opportunities for the company to showcase new and innovative products.

Another important aspect of the business model is its commitment to providing a high level of customer service and engagement. Services are a major differentiator and this is evident in the company's in-store salons, where customers can receive personalized beauty services from trained professionals, as well as its Ultamate Rewards loyalty program, which provides customers with personalized offers and rewards based on their purchase history.

ULTA's omni-channel offering is also a key component of its business model. In addition to stores, the company has invested heavily in its e-commerce platform, with features such as virtual try-ons and personalized recommendations based on a customer's purchase history.

We will discuss how ULTA's unique and differentiated model creates a competitive advantage later. If you are familiar with the company or would like us to cover specific points or answer specific questions you may have, please let us know in the comments.

Last week, Veeva Systems, a cloud-computing company that provides software solutions for the life sciences industry, and a stock we hold in our SLT Core Portfolio, reported its Q4 and FY 2023 earnings (FY ending January 31, 2023).

We covered the company in December last year. You can access the detailed analysis here.

Total revenues for the Q4 quarter reached $563.4mn, up from $485.5mn one year ago, an increase of 16%. Subscription services revenues were $460.2 million (stable 82% of total revenues), up from $395.7 million a year ago. The company continued a 10Y long positive earnings surprise streak.

In the FY2023, total revenues amounted to $2.16bn, which is a 16% increase from $1.85bn in the previous year. The revenue generated from subscription services was 80% of FY total revenues.

In terms of Operating Income, the company recorded a decrease in Q4 EBIT (but above consensus) from $119.7mn to $108.9mn, representing a YoY decline of 9%. On the other hand, non-GAAP operating income for the same period rose from $186.3mn to $209.4mn.

The operating income for FY2023 was $459.1m, which is a decline of 9% from $505.5mn the previous year. Non-GAAP operating income for fiscal year 2023 increased by 9% YoY to $830.5m from $758.7m one year ago. Non-GAAP operating margin contracted from 41% in FY2022 to 38.5%.

Regarding Net Income and Non-GAAP Net Income, the Q4 saw a significant YoY increase in the former, reaching $188.5mn compared to $97.1mn from one year prior, a 94% rise. Non-GAAP net income for the same period reached $186.3mn, up by 27% from $147mn one year ago. Over the last decade, the company never disappointed with regards to quarterly non-GAAP EPS.

FY 2023 saw a net income of $487.7mn, a 14% increase from $427.4mn one year ago. The non-GAAP net income for FY2023 was $695.6mn, which is a 15% increase from $604.7mn one year ago. EPS was $3, compared to $2.63 one year ago. On the other hand, the non-GAAP fully diluted net income per share was $4.28, compared to $3.73 one year ago.

The company grew its FCFPS in line with EPS from continuing operations.

Management provided investors with guidance for the upcoming FY, including an average 9% revenue increase. Non-GAAP operating margin is expected to be around 34% and EPS relatively stable at $4.33.

For FY2025, the management expects VEEV to reach at least $2.8bn in total revenues and $1bn in Non-GAAP operating income, implying a 35%+ margin. Below is Brent Bowman (CFO) comment on the operating income target:

Some highlights for the last FY is that VEEV expanded its partnership with the life sciences industry, finishing the year with 1,388 customers, up by 174 from the previous year. It also added three additional top 20 pharma in the Q4 for a total of six top 20 pharma committed to using Veeva Vault EDC for all new clinical trials.

Using our earnings transcript analysis tool, the ratio of positive words over negative is 2.39 and below are the main positive words.

To conclude, it highlights perfectly the long-term thinking orientation of the management and its continued strong execution. Our thesis remains unchanged.

We wrote about the company approximately a month ago covering its Q4 2022 earnings and we provided a high level introduction of the firm's large addressable market given the global bond's electronic trading low penetration and how MKTX all-to-all platform addresses this opportunity, alongside other services like data providing and post-trade compliance reports for example.

The full post is available here.

In this post we will focus on a review of the company's financial condition, the management, and a valuation assessment. As usual, we truly believe we can all learn from each other, so please let us know your thoughts in a comment!

MKTX operates a commission-based business and it is not surprising to see that, in 2022, commissions represented 89.3% of total revenues, and 90.12% on average over the last 5 years. Information and post-trade services accounted for the rest.

Other credit is mainly composed of US HY, Eurobonds and emerging markets. Total trading volume surged 5x during the period to $8.4tn in 2022, helped by the Covid-19 pandemic as institutional investors turned to electronic trading platforms.

The average transaction fee is obviously different for each type of bonds and is as low as $4/mn for US Treasuries and can be more than $200/mn for other credit trading. The significant increase in volume and decrease in the average variable transaction fee per million for rates products from 2018 to 2019 was primarily attributable to the inclusion of US Treasuries.

We can see that the revenue has increased 3x from $238.7mn in 2013 to $718.3mn in 2022, representing a 13% CAGR over the period.

The YoY Growth line in the above chart shows the year-over-year growth rate of revenue. We can see that the company experienced significant growth in revenue from 2013 to 2020, with a YoY growth rate ranging from 9.69% to 34.77%. For the last two years there was only a slight increase of revenue, growth rates were below 3% for both years. Overall, the company experienced significant revenue growth in the earlier years, but this growth rate slowed down in recent years.

The recent slowdown of the company's revenue growth, and despite a 27% trading volume increase over the last two years, is simply due to lower transaction fees. The explanation for the later is twofold.

First, fees tend to be highly (positively) correlated to the average bonds' duration traded on the platform. When investors prefer lower duration bonds, the average transaction fee is lower.

Theoretically, when yields are trending lower (higher), investors will increase (decrease) duration. Taking the Moody's Aaa Corporate Bond Yield of the last 5 years, the correlation is explicit. When yields where declining from 2018 and bottomed in 2020 (excluding March spike), MKTX's average variable transaction fee increased and topped $194.06. However, starting in 2021 but mainly in 2022, yields rose and investors sought to reduce their portfolios' duration. The impact on MKTX's average variable transaction fee is observable with the latter reduced by c.14% over the last 2 years.

Another reason is the migration of some broker-dealer clients from an all-variable fee plan to a plan that incorporates a monthly distribution fee. While the latter plan enables MKTX to collect a minimum fee from its clients on the platform, it offers lower variable fees. The below table is an example showing the relation between fees and duration, security type, and monthly minimum fees amount.

SG&A expenses, as a percentage of revenue, have been relatively constant over time with a dip in 2020 (function of the high average variable transaction fee). It includes mainly employee compensation and benefits, technology and communications (software subscription and cloud hosting costs), and consulting fees (acquisition-related integration fees). Even if the latter is directly linked to the several acquisitions in the recent years, I would adopt a conservative stance assuming these fees will be lower but persist going forward due to the management's willingness to keep invest in and grow the business through product and geographic diversification.

The second category of operating expenses is depreciation and amortization (D&A) expenses, which also show an increasing trend over the years. However, the percentage of revenue represented by D&A expenses has remained relatively stable until 2021 and 2022, where it increases significantly. D&A expenses mainly include amortization of software development costs and acquired intangibles. It is fair to associate this expense item with business development costs.

The growth in operating income and the relatively stable operating margin suggest that the company has been able to manage its expenses effectively while generating higher profits, especially by reducing SG&A expenses and despite the increased development expenses (both as % if revenue) during the period.

The company's level of debt is unsignificant ($82.68mn as of FY2022), hence taxes are the "only" expense deducted from the EBIT in order to derive the net income.

EPS increased 3.25x over the period and was $6.68 at then end of 2022 after reaching $8.01 in 2020.

Looking forward, consensus expects revenue to grow c.12% p.a. over the next years, surpassing the $1bn mark in 2025.

In terms of expenses, the management provided us with a $418-446mn expected range for the next FY. If we use the above estimated revenue, we can derive an EBIT within a $363-391mn range, representing a mid-range EBIT margin of 46.6%, slightly higher than in 2022, and aligned with consensus estimates.

EPS is expected to grow faster than revenue thanks to margin improvement, exceeding its 2020 peak in 2024 and reach $10.4 by 2025.

With regards to profitability metrics, they have been mainly driven by the company's posted margin but it is important to note that ROA significantly decreased over the period, from c.20% in 2013 to 13% for the LTM, implying an drop in MKTX assets' efficiency. Total assets have been multiplied by 4.54 (significantly more than earnings) over the period and the increase was driven by higher non-productive assets such as cash, STI, and receivables.

If we compare MKTX to its closest competitor Tradeweb ($TW), we can clearly observe that MKTX exhibits a better profitable however has lower FCF yield. FCF specifics will be discussed later.

From a liquidity point of view, the company’s balance sheet appears solid. Current and quick ratios (no inventory) are both 3.56 and cash represents more than 30% of total assets. It is important to note that receivables account for almost 40% of current assets and as revenue ramped up, the amount got bigger. However if we look at receivables as percentage of total revenue, it is more surprising to see that they evolved from a stable c.13% before the pandemic to 68% as per the last financial statements. Days of sales outstanding more than quadrupled during the period to 226 days in 2022.

Although we could not find an explanation in 10Ks or earnings transcripts we decided to ask IR directly about that drastic change (no answer). In addition, MKTX's closest competitor Tradeweb's receivables represent 13% of total revenue and where as high as 38% during the period but never comparable to MKTX.

From a solvability point of view, as discussed earlier, MKTX's debt level is not significant with a net cash position of $422.48mn.

Operating activities generated close to $290mn in cash in 2022, aligned with the net income (NI). Depreciation & amortization, combined with SBC added $C.90MN from the NI. The aforementioned significant increase in accounts receivable impacted the cash generation ability of the company but was partially offset each year by an extension of the accounts payable, resulting in a mild impact to CFO.

Investing activities are very low since MKTX does not operate in a capital intensive business and used only $86.27mn during the last exercise, mainly spent on purchases of marketable and equity securities. CapEx of $13.14mn represented less than 2% of revenue.

Financing activities used another $242.38mn in 2022 and has been consistently negative and allocated between buybacks and dividend payments over the period. Both are almost evenly weighted resulting in a total shareholder yield of 1.64% (0.8% from dividend yield and 0.84% from buyback yield).

FCF is relatively close to MKTX's NI for the following reasons: low amount of D&A, CapEx, and because change in receivables are mainly offset by an opposite change in payables, resulting in reasonable change in working capital. However, if receivables continue to grow and the impact is no longer mitigated by the accounts payable, it could result in a significant reduction in FCF going forward.

Over the last 5 years, the stock significantly outperformed the S&P500.

Richard M. McVey is the Chief Executive Officer and Chairman of MKTX. He was instrumental in founding the company in 2000 and led it through its IPO in 2004. McVey has extensive experience in the financial services industry, including leadership roles in the fixed-income business at J.P. Morgan, and has been named to the Institutional Investor Tech 40 list 15 times. He has deep knowledge and understanding of all aspects of the business and operations of MarketAxess, however, he will be stepping down as the company's CEO in April this year.

Current COO, Chris Concannon, will take over as CEO and has over 20 years of experience as an executive in the exchange industry, including at Nasdaq, Virtu Financial, Instinet, and CBOE. He has expertise in automated trading, the delivery of innovative technology solutions, market structure and clearing operations.

This transition does not raise any specific concerns to us, especially given the fact that McVey will become Executive Chairman where his focus will be on "supporting Chris in his new role, further developing corporate strategy, and working closely with key clients and our Board of Directors."

Based on the median value of CEO compensation by company size (revenue), the current total compensation (included exercised stock options) appears low. Despite being still led by its co-founder, less than 3% of shares are held by insiders, mainly by McVey.

The company’s mission is as follows: "transforming how the global fixed-income marketplace connects and transacts. We feel it's important that the world's capital markets be as open as possible."

With regards to capital allocation, the company acquired small brokers and complementary businesses but at the margin. The bulk the capital has been allocated between investments in future growth, shares buybacks, and dividend payments to shareholders.

It is fair to say (and maybe because of the finance background of the founder and executives), that MKTX's management has a strong focus on returning capital to shareholders with constant dividend payments and shares repurchase programs over the period. As already mentioned when we first wrote about the company, we are surprised by the amount of capital returned to shareholders especially given the growth potential ahead for MKTX.

The above screenshot from the investors presentation highlights the growth strategy of the company which involves increased penetration, market share, and geographical and product diversification through investments. However, with a LTM dividend payout ratio of more than 40% and share buybacks slightly higher than dividends, it is almost 90% of NI that has been distributed to shareholders last year.

Even if paying dividends sends a message about a company's future prospects, performance, and financial strength, a company that is still growing rapidly usually won't pay dividends because it wants to invest as much as possible into further growth. The below trend in capital returned to shareholders raises a question on the management's perception of MKTX's future growth potential.

The company is committed to grow its business in a sustainable manner and exposed an ESG strategy/initiatives plan in its last annual report.

With an ESG risk score of C+, the company exhibits satisfactory relative ESG performance and moderate degree of transparency in reporting ESG data publicly. The company's rating is mainly impacted by low environment and governance pillar scores. We usually like to see scores above 50%.

The relatively poor score is confirmed by IBKR ESG Principles score:

The good social scores from both above sources are further confirmed by strong Glassdoor reviews. More than 75% of employees who gave a review would recommend to a friend to work in the company and 90% approve MKTX's (soon to be replaced) CEO.

Looking at historical multiples, the company trades slightly below average and above -1 std deviation from the last 5 years average. The value derived from the average of the above multiples imply an intrinsic value of $C.397 per share, logically very close to the actual trading price of $C.369.

On a relative basis, after trading at a discount for most of the last 3 years, MKTX is today more expensive (P/E)

than its closest competitor Tradeweb.

Not to rely solely on absolute/relative multiples, we ran a DCF model to assess MKTX intrinsic value.

We used a FCFF forecast period of 10 years, using consensus estimates for the revenue during the first 3 years of

the period and then a revenue gradually reverting back to the long-term global online trading platform revenue growth rate of 5.1% for the 7 remaining years.

The DCF model implies that MKTX shares are currently slightly overvalued, at a premium of more than 8% and with an IRR actually lower than the company's WACC. As noted earlier, the historical net change in WC is not a conservative approximation in our view, because if the expansion of accounts receivable were not offset by an increase in accounts payable, the company's FCFF would be significantly impacted, and therefore the

valuation would be even lower.

As an extra layer in our valuation process, we decided to cross check with a reverse DCF model, please see below.

Based on our reverse DCF model, the current market price implies an FCF annual growth rate of c.19.17% for the next decade and 3% perpetually which appears not achievable based on the growth perspective of the company.

Even if the company experienced significant growth over the last 20 years, we believe that during the next decade, MKTX will be closer to a 5-10% growth rate p.a. than the almost 20% implied by the current market price. As a conclusion and based on the above valuation methods, we believe shares of MKTX are currently overvalued.

Risks:

Clients will be able to launch Request for Quote (RFQ) tickets for applicable securities or respond to an RFQ to seamlessly execute a trade, supported by dedicated Goldman Sachs intermediation desks. The service Bloomberg Bridge went live last year and is designed to offer users the ability to source a deep pool of liquidity from Bloomberg’s global network of institutional investors and dealer firms, which currently number over 3,700 (2x more than MKTX).

After a few weeks of relatively low activity, we are back!

Our next post will be a follow-up on MarketAxess ($MKTX), delving a bit deeper into the financials, the management, and the valuation.

We will also provide you an update on the SLT Core Portfolio's strategy, current positioning...

Finally, we are curious to know which of these 3 companies you would most like to read about?

MarketAxess is a technology-driven financial services firm specializing in electronic trading of fixed income securities. It provides a platform for institutional investors to trade bonds with ease and efficiency. The company was created by Rick McVey and has a current market cap of $13.88bn.

So far, one could say that there is nothing unique or new to electronically trading financial securities with ease and efficiency. We have all observed the recent trend with regard to online trading where it is nowadays very simple to buy financial securities, with one click and at low cost.

However bonds trading is another story. The bond market is an over-the-counter (OTC) market where bonds are traded directly between buyers and sellers without a central exchange. The bond market is larger than the stock market and is an important part of the global financial system.

Bond trading is usually conducted through bond dealers who act as intermediaries and provide market making services. These dealers are at the center of a vast network of telephone and computer links that connect all the interested players.

Bond trading has historically been more challenging to automate compared to equity trading due to its complexity. This has led to a greater reliance on human-to-human interaction in fixed income trading compared to other asset classes. However, there has been an increasing trend towards electronification, with automation, algorithms, and systematic trading becoming more widespread and MKTX is driving this trend.

The company launched its first web-based platform in 2000, and is now the leading fixed income electronic trading platform for institutional investors and dealers.

Over the years, MKTX built a global trading platform providing services from pre-trade price discovery to post-trade services. The main product is Open Trading, a single-integrated platform with multiple protocols combining dealer and buy side liquidity.

In addition to making bonds trading easier, MKTX solutions' users are seeing significant cost savings as explained by Chris Gerosa, MKTX's CFO:

According to the company's website, Open Trading (all-to-all trading) already saved more than $1bn in transactions costs for MKTX clients. The liquidity pool is increasing, as well as the active network of participants.

Given the cost savings and increased efficiency, the product is clearly the company's competitive advantage still according to Gerosa: "So the all-to-all trading, that is our competitive moat. That's where we've invested for the future."

During the last investor day, management mentioned a substantial TAM beyond US corporate bonds. Management discussed ways to increase growth and expand their market share in areas where penetration of electronic trading and MKTX's market share is low. They see potential for the trading revenue market to more than double in 10 years, with MKTX having the opportunity to grow its market share from over 13% currently. They also see a large opportunity in the global market data revenue and post-trade services revenue markets, given their low single-digit market shares. The CEO and COO expect credit trading to become highly electronically penetrated (75% or higher) in the future. They also estimate that each 1% growth in market share could result in annual revenue of c.$40mn.

Management also discussed the potential growth of its platform by focusing on expanding its e-penetration and market share in the fixed income market. They identified five key protocols for growth: RFQ, portfolio trading, streaming, central limit order book, and matching sessions. Management also mentioned a positive outlook on the increasing demand for automated trading solutions and pricing data, and (as already mentioned) believe that its Open Trading network will become the dominant method of trading across fixed income marketplaces, improving liquidity and reducing costs for investors, traders, and dealers.

Its CEO Rick McVey reported record revenues, market share, and trading volume across most of their product areas, driven by their unique all-to-all liquidity pool, Open Trading. In 4Q22, the company saw a 8% increase in revenues to $177.9 million and a 24% growth in total credit average daily volume. Their estimated market share increased across several areas and the CEO noted a favorable backdrop for fixed-income in 2023. McVey also announced a leadership transition, with Chris Concannon taking over as CEO in April, while McVey transitions to Executive Chairman. Full-year highlights include record revenues, commission revenue, and trading volume, with 36% of total credit trading executed through Open Trading. The estimated price improvement for clients was approximately $945 million, exceeding their total annual revenue.

After growing at a double-digit growth rate until 2020, FY revenue has been flat-ish over the last 2 years. EBIT margin oscillated between 55% and 45%.

Profitability decreased from the 2020 peak, however it remains above 10% for the ROA and in the mid-20s with regard to ROE, with low use of debt (7.1% as of December 31, 2022).

EPS was in line with consensus, and the company historically beat consensus estimates.

Flattening revenue combined with decreasing revenue resulted in a lower EPS, showing negative growth for the last two years.

Source: koyfin

FCF hit $289.2mn for 2022 and FCF per share topped 6.33, in line with NI.

We hope you found this brief introduction of MKTX useful and don't hesitate to let us know if you'd be interested in reading a more detailed analysis of this company.